Defence companies

The war dividend

Standing shoulder to shoulder with America is good for business

BRITAIN has a large and thriving defence industry, ranking second only to America in the world market. Companies such as BAE Systems (formerly British Aerospace), Rolls-Royce and Smith Group are leading suppliers of defence equipment—mostly related to aerospace, which is by far the biggest part of the defence equipment market.

But this success story may not last much longer. Not that defence is about to decline like coal mines, steel and textiles, whose customers turned to cheaper suppliers in poor countries. Quite the opposite: Britain's defence industry is shifting its centre of gravity to America, where its sales and investments are growing fast. “It's not a trend, it's a bloody stampede,” says one industry economist. Sales of defence equipment in America by the top six British defence aerospace companies have doubled since 1997. BAE sells more these days to the Pentagon than it does to Britain's Ministry of Defence.

But this is no rousing story of export success: the sales are largely of equipment made in America by subsidiaries of British firms. “America insists on local production to offset 100% the value of a contract,” says Keith Hayward, chief economist at the Society of British Aerospace Companies (SBAC). So even if some widgets are made in the British Midlands or technology is cooked up in Farnborough and sold across the Atlantic, the company will have to make goods of equivalent value in the United States. Most of the manufacturing has to be done in factories that the British companies build or acquire over there.

There are clear reasons for this westward migration. First, America is, unsurprisingly, by far the biggest defence market in the world, buying about half of the $200 billion of military hardware produced in the world each year. And last year's terror attacks have helped trigger a rise in spending on defence equipment, which is tripling from the post-cold war trough it hit in the mid-1990s.

Second, British companies are well received in America because they are seen as trustworthy cousins. The Pentagon worries about sharing technology with the French or Germans for fear it may find its way into the hands of unsavoury regimes. The British tend to comply more easily with American restrictions on export of defence technology. And Britain's readiness to stand by America goes down very well in the Pentagon. Try as they might, continental European defence companies such as Thales and European Aeronautics Defence and Space (EADS) have a harder time getting into the Pentagon. Thales even bought a smallish British company, Racal, partly to use as its ticket to America.

BAE has become very big in America after a string of acquisitions in recent years, taking over parts of American defence contractors that were up for grabs as the local industry reorganised. It also finds it easier than continental Europeans to win Pentagon approval for such deals. Some industry observers even suspect that BAE will one day re-locate its headquarters in America. Its chairman, Sir Richard Evans, explains his expansion in America by pointing out that he has to direct his efforts to the best market.

Defence budgets in Europe are tiny and barely growing. Pan-European projects such as the Eurofighter aircraft take for ever to enter production: the Eurofighter itself is ten years late, and a proposed military transport plane, known as the A400M, has just been delayed again by the Germans despite being discussed for over 15 years. Military campaigns such as Kosovo and Afghanistan have highlighted the need for more modern transporters.

Outside those cumbersome joint defence programmes, Britain finds it hard to break into the markets of its fellow Europeans. Germany buys little, while France buys only French. Other Europeans with no big home industry tend to buy American because they are cheaper. Britain may be entertaining a bid from a French company, Thales, to build the new aircraft carriers it needs, but it would be pointless BAE trying to do the reverse.